Looking at the Past

Looking back over the last few weeks of price action across the major currency pairs, I feel that there has never been a time to be more disciplined and balanced in our trading activities. While I would say that no matter what stage a trader is at in their career, there can always be challenges to face; I draw attention to recent market activity in this case purely because I have seen many accounts hurt during times of big swings in either direction in the Forex markets. As of late, we have seen 150-200 pip moves in the same day and to me, these violent pushes to extremes can be easily attributed to the fact that right now the market, in general, is coming into a decisive point. We are heading towards the end of the year. Once the holiday season is over, all eyes, both fundamentally and technically, will be upon what is in store for 2011, and it should be noted that there are still looming concerns for the future of the global economy in the air.

My primary reason for making this observation in this week’s article relates directly to my recent trading and 1 on 1 session. In pretty much each session, I have been stressing to my students about remaining objective at all times, no matter what we think we are seeing and what our emotions may be telling us to do. As I have mentioned on numerous occasions, one of the most thorough and mechanical ways to overcome our trading biases is to follow a strict and detailed trading plan at all times. Letting go of the thought process and planning objectively around what the market is showing us is a key element in developing a career as a consistently profitable trader. However, even when a well-constructed trading plan has been formed, we can still run into trouble from time-to-time if we fail to execute this plan flawlessly at any given chance. Let me explain.

Along with Risk Management and the Trading Strategy, a trader’s Psychology is probably one of the key components that defines overall success in the marketplace. A common trait that all active traders need to be aware of is the state of what some have termed “Recency Bias.” This dynamic directly refers to the internal bias that anyone can be affected by, mainly due to recent emotional experiences such and pain and joy. In trading terms, recency bias is how a trader’s actions moving forward are directly impacted and often influenced by his or her previous and especially most recent trading outcomes. As comforting a winning streak in the market can be to us all, we should also remember that sometimes a significant string of winning trades can eventually do us more harm in the long run than good. Ironically, this can also be said for a glut of losing positions as well. If handled correctly and unemotionally, the run of losing trades can be a trader’s best friend in the battle of ongoing execution and management consistency, only if handled with discipline and objectivity at all times.

Firstly, let us explore the scenario of the winning streak. Typically, I do follow my trade success rate in my post trading performance analysis, however, as my time as an active trader has expanded, along with my market experience, I have found this statistic to be less and less important in my overall plan. One reason is due to that fact that too much success in our trades (yes, I did say that!) can often lead to a “Midas Touch” attitude in our speculative activities. In the earlier days of my trading, I had some fantastic winning streaks where it felt like I could do no wrong in the markets. I was hitting my profit targets and beyond on repeated occasions and the experience of loss almost became a forgotten memory, until it actually happened again! You see, we can get so caught up in being right most of the time that we then forget that trading involves being wrong, too. Sure, if you can manage to follow your plan consistently, then a winning run should be welcomed with open arms, only if you know that you won’t be tempted to take your eye off of the ball.

If you are or have been enjoying a period of high hit rates, then do yourself a favor and look back on your wins. Ask yourself if each trade was executed flawlessly according to your plan for trading. If the answer is yes, then great. You are likely to face some losers in time but if you stick to the plan, then you are carrying out your job as a trader effectively. On the other hand, if the answer is no, then you need to stop and analyze your plan. Making money without knowing how you made it is a recipe for disaster in my book. When everything is going well, it can be easy for a trader to bend the rules from time-to-time. This can be met with positive results, but the market also has the tendency to reward us from time-to-time for our bad habits. We need to be aware of not allowing it to punish us for them later down the line. There is nothing more dangerous than a cocky or reckless trader. Thinking you know exactly what the market is going to do next is an easy way to fall into the habit of loading up big on trades and over exposure in positions. Typically, the moment this happens, the market decides to do the opposite of what we thought, costing us much more than we first intended.

As previously mentioned , a losing streak is also something we need to be aware of and know in advance how to deal with. At first glance, we would typically connote a run of failures as a bad thing to happen, as nobody in the markets really wants to be faced with this scenario. It will happen though and is something we should all be prepared for. I encourage my students to look at a run of systematic losses as part of the overall trading picture and to not see it as a scary prospect but rather as another step on the development curve. If you took five losses in a row and looked back to find that you analyzed and placed each and every trade according to your trade plan, then you have done very well. Losing streaks are nothing more than a part of the long-term game, just ask the Turtle Traders.

The underlying danger not often seen on the surface of the losing run is the inherent fear that can often brew up within the trader’s psyche. This fear of loss and exhaustion from failure will often steer a trader into passing on a solid setup that comes along the next time. In my opinion, this truly is a trading cardinal sin! Don’t be surprised if the trade you decide not to place (because you are feeling beaten and bruised form your previous losses) ends up being a perfect missed opportunity. I have found when working with students that this necessity to get on with business as normal is by far one of the greatest challenges we all have to face. There is no excuse for passing up a trade based on our previous experiences and is a deep thorn in the side of the quest for consistency. How can you hope to win if you become too scared to place a trade?

Too often in the journey for consistent trading returns I have seen myself and others caught up in the analysis of the trade, often resulting in a negligence of the other intrinsic aspects which come together to form the complete trader. My advice to any burgeoning trader is to form that plan, define your edge, know your risk parameters in advance and stick to the rules you have created. The trick to trading has never been about just the wins and the losses, nor the ability to only win big and lose small. The true catalyst for success is to adhere to a balanced routine of analysis, recognition and execution, with as much attention diverted from the pending results as possible.